Whole Foods Market(NASDAQ:WFM) shares were dying on the vine again last week, stumbling 12% after another weak earnings report. The stock hit a new 52-week low, and fell below $36 for the first time since 2011, a sign of how serious Whole Foods' challenges have become.
The sell-off wasn't without merit. Sales increased just 8% in the quarter, and comparable sales, a key figure in the industry as it strips out the effect of new stores, improved by only 1.3%. For a growth stock that at one point could do no wrong on Wall Street, these numbers are just plain ugly.
One notable item impacting the quarter was negative publicity resulting from a New York City audit that found the company had mislabeled weights on packaged foods, resulting in erroneous prices. Management said same-store sales slipped following the incident, to 0.4% in the last two weeks of the quarter, and continued to be weak into the third quarter, at just 0.6% through the first three weeks.
While the effects of the pricing scandal are likely to fade away during the coming months, the deeper reason for Whole Foods' slowing growth -- rising competition -- is here to stay.
Still, there was one important number in the earnings report that should restore investor confidence in Whole Foods as a growth story.
Store openings are still strong
While Whole Foods' comparable-store sales growth has trailed off, the company still projects a long path of new stores ahead of it. Management believes that there's room in the U.S. market for more than 1,200 of its stores. Currently, Whole Foods has just 424 domestic locations, meaning the total store count should eventually triple if management's projections are accurate.
New Whole Foods stores are still doing well. The company breaks down comparable-sales growth based on store maturity, and while growth in its older stores has slowed, comparable sales at units open less than five years jumped 8.7% last quarter. That's a sign that new stores are still being well received despite increasing competition from the likes of Kroger (NYSE:KR), Costco (NASDAQ:COST), and Wal-Mart (NYSE:WMT). If the narrative were completely true that legacy grocers were crushing Whole Foods, new stores would not be having that kind of success.
What has changed is that Whole Foods' competitors have co-opted its growth in organics. Last year, Kroger saw same-store sales jump 5.2% as its in-house organic brand "Simple Truth" approached $1 billion in annual sales. Bulk seller Costco, meanwhile, is now the largest seller of organic food in the country according to analysts. Wal-Mart has also jumped onto the bandwagon with a decision last year to sell Wild Oats organic products at a lower price than competitors' organic foods.
But despite Whole Foods' troubles, the organic grocer is still posting record average unit volumes this year as the graph below shows.
Average weekly sales growth has slowed visibly since 2013. Nevertheless, average weekly sales are up nearly 25% since 2010, indicating that Whole Foods' stores have become much more productive. It also means that newly opened stores' sales volumes are strong enough to keep pushing that figure higher.
Meanwhile, Whole Foods' profit margin has bounced back from the recession. While it's faded slightly from the highs of 2013, Whole Foods still has a considerably stronger profit margin than any of its mainstream competitors.
On a sales-per-square-foot basis, Whole Foods also dominates the competition, with $990 in annual revenue per square foot, which is about twice that of competitors like Kroger, Publix, and Wal-Mart. That means Whole Foods is better than the competition at converting its real estate into sales, and in turn converting those sales into profits. In other words, despite its challenges, Whole Foods' business is still stronger than Kroger's, and it should therefore be able to reach its goal of 1,200 domestic stores.
At its current P/E of 21, Whole Foods is no longer priced as a growth stock -- it's barely more expensive than the S&P 500 average of 18. Its valuation is equal to Kroger's, and cheaper than that of retailers like Costco.
Considering Whole Foods' strong metrics and future expansion, that seems like a mistake. Management has projected slow growth in the current quarter, but next year should be more promising as it launches its new 365 chain and the negativity from the pricing scandal fades. I'd expect shares to come back in bloom sometime next year.